Growth in most emerging and developing economies continues to be strong. Growth in many advanced economies is still weak, considering the depth of the recession. In addition, the mild slowdown observed in the second quarter of 2011 is not reassuring, according to International Monetary Fund’s latest World Economic Outlook published on Saturday.
Activity is slowing down temporarily, and downside risks have increased again. The global expansion remains unbalanced.
Overall, the global economy expanded at an annualized rate of 4.3 percent in the first quarter, and forecasts for 2011–12 are broadly unchanged, with offsetting changes across various economies. However, greater-than-anticipated weakness in US activity and renewed financial volatility from concerns about the depth of fiscal challenges in the euro area periphery pose greater downside risks.
Risks also draw from persistent fiscal and financial sector imbalances in many advanced economies, while signs of overheating are becoming increasingly apparent in many emerging and developing economies. Strong adjustments—credible and balanced fiscal consolidation and financial sector repair and reform in many advanced economies, and prompter macroeconomic policy tightening and demand rebalancing in many emerging and developing economies—are critical for securing growth and job creation over the medium term.
Despite some negative surprises, global growth attained an annualized rate of 4.3 percent in the first quarter of 2011.
The outturn was underpinned by many unanticipated offsetting factors. Key among the negative surprises was the devastating effect of the earthquake and tsunami on the Japanese economy, with supply disruptions weighing heavily on industrial production, and consumer sentiment and spending. Growth also disappointed in the United States, in part due to transitory factors—including higher commodity prices, bad weather, and supply chain disruptions from the Japanese earthquake on US manufacturing. In contrast, growth surprised on the upside in the euro area, powered by more upbeat investment in Germany and France. Growth in emerging and developing economies evolved as expected, but with considerable variation across regions. Global employment continued to pick up, including in many advanced economies.
Global inflation picked up from 3.5 percent in the last quarter of 2010 to 4 percent in the first quarter of 2011, more than .25 percentage point higher than projected in the April 2011.
Inflation accelerated mainly because of larger-than-expected increases in commodity prices. However, core inflation also crept up across a number of economies. Among advanced economies, core inflation remained subdued in the United States and Japan and rose moderately in the euro area. Among emerging and developing economies, inflation pressures have become increasingly broad-based, reflecting a higher share of food and fuel in consumption as well as accelerating demand pressure.
After easing through much of the first half of 2011, global financial conditions have become more volatile since late May. This reflects market concerns about sovereign risks related to developments in the euro area periphery and the recent softening in activity and persistent housing market weakness observed in the United States. Symptoms include rising sovereign credit default swap spreads in certain euro area economies, retreating global stock prices, and falling long-term bond yields in the major advanced economies. In addition, the June 2011 Global Financial Stability Report (GFSR) Market Update emphasizes the insufficient pace of progress on banking system repair, notably in Europe, as well as risks related to re-leveraging in various market segments.
For emerging and developing economies, the financial environment remains quite accommodative, although with greater variation across countries. Capital inflows have been fickle, probably reflecting the increased downside risks to the global economy and domestic policy concerns such as inflation. Some of the larger economies are experiencing rapid credit growth, propelled by accommodative macroeconomic conditions and buoyant capital flows. In others, credit growth has decelerated with a persistent tightening of monetary policy. Despite some currency gyrations, exchange rates have not moved much in real effective terms in recent months.
Commodity markets have experienced volatility since late April. After surging through April, commodity prices fell in May. The corrections partly reflected the unwinding of an earlier buildup of noncommercial derivative positions with increased general financial volatility and in reaction to recent data on softer global economic activity. Prices of crude oil briefly came close to $120 a barrel in April, fell sharply in May, but have stabilized since. Current prices average about $107 a barrel, close to levels assumed in the April 2011 World Economic Outlook. Food prices also stabilized beginning in early 2011, following last year’s weather-related supply shocks.
Global activity is projected to slow in the second quarter of 2011, and then reaccelerate in the second half of the year. But activity will remain unbalanced amid elevated downside risks. Growth is set to be sluggish in advanced economies facing fiscal and financial sector balance sheet problems, which will continue to be a drag on employment. Activity will continue to expand strongly in advanced economies that do not face such challenges, as well as in many emerging and developing economies.
Forward-looking indicators such as manufacturing purchasing managers’ indices suggest that activity has softened in the second quarter of 2011, especially in many advanced economies. The projected easing in activity comes from more subdued private consumption, as oil price hikes in previous quarters cut into households’ real incomes. In addition, the effect of global supply disruptions from the Japanese earthquake is fully materializing in the second quarter. However, the fundamental drivers of growth remain in place: overall still-accommodative macroeconomic conditions, pent-up demand for consumer durables and investment, and strong potential growth in emerging and developing economies. Accordingly, the baseline projections on global growth and inflation remain broadly unchanged compared with the April 2011 World Economic Outlook.
Growth in the advanced economies is projected to average about 2.5% during 2011–12, slightly weaker than in the April 2011 World Economic Outlook. This would represent a modest deceleration from an average of about 3 percent in 2010. For 2011, growth is expected to be weaker than previously projected in the United States and Japan, partly offset by stronger activity in core euro area economies. In 2012, the rebound of the Japanese economy from the earthquake is forecast to offset weaker growth in the United States.
Output growth in emerging and developing economies is expected to be 6.5 percent during 2011–12, compared with about 7.5 percent in 2010, in line with the April 2011 World Economic Outlook projections. Within this overall picture, prospects vary across regions. Growth in emerging Asia will decelerate only slightly from the very high levels of last year. Disruptions to regional production networks due to supply constraints from Japan appear contained, although some sectors, especially automobiles and electronics, could experience strains through the summer. Latin America will be bolstered by commodity exports and domestic demand but the pace will ease in some economies where policies have been tightening more aggressively. Growth in emerging Europe is now projected to be higher than previously expected in 2011, followed by a softening in 2012, driven in part by a sharp domestic demand cycle in Turkey. Activity is projected to continue strengthening in sub-Saharan Africa, with domestic demand remaining robust and commodity exporters benefiting from elevated prices. Economic prospects in the Middle East and North Africa remain clouded by political and social unrest, although the outlook has improved for some oil and mineral exporters.
The balance of risks points down more than at the time of the April 2011 World Economic Outlook. Downside risks due to heightened potential for spillovers from further deterioration in market confidence in the euro area periphery have risen since April. Market concerns about possible setbacks to the U.S. recovery have also surfaced. If these risks materialize, they will reverberate across the rest of the world—possibly seriously impairing funding conditions for banks and corporations in advanced economies and undercutting capital flows to emerging economies. In addition, banks in advanced economies continue to face a wall of refinancing requirements, and a squeeze on banks’ wholesale funding could reverse the recent normalization of lending standards. Near-term risks for sharper or more drawn-out negative spillovers from Japan to other economies cannot be ruled out either.
Regarding commodities, risks are smaller than projected in April but still point down for growth. Unrest in the Middle East may raise oil prices. Although pressures in food markets have eased somewhat, low inventories and weather-related supply disruptions present significant near-term upside risk for prices.
Fiscal challenges continue to pose various risks for the recovery. A first set of concerns revolves around fiscal imbalances in the euro area periphery. A second set involves the large near-term fiscal adjustment in the United Sates against a still-fragile recovery. A third set of concerns centers on medium-term fiscal sustainability in the United States and Japan. In the United States, these risks are rising because of the absence of credible consolidation and reform plans, while Japan’s plans must be made sufficiently ambitious and be implemented. In Japan, the fiscal response to the earthquake has raised challenges to attaining medium-term fiscal sustainability. Some credit rating agencies have already put U.S. and Japanese sovereign credit ratings on negative watch.
Overheating pressures in some key emerging economies have also intensified as observed in elevated inflation pressures, and in some cases high asset prices. While some economies have tightened at a faster pace, others have fallen somewhat behind the curve. The longer policy rates stay low, the larger the chances of a hard landing in the future.
Upside risks from stronger investment by a generally healthy corporate sector in advanced economies, or buoyant near-term activity in emerging and developing economies, are broadly at the same level as estimated in the April 2011 World Economic Outlook.